When an insurance company pays a claim by its insured, the insurance company acquires a legal right to pursue a so-called “subrogation” claim against another party who may be responsible for the damage. The insurance company “stands in the shoes” of its insured to seek damages from whoever caused the loss. Typically, construction contracts include a “waiver of subrogation” clause that limits the right of the insurer to file a subrogation action against another participant in the construction project.
These waiver of subrogation clauses are good public policy and generally benefit all project participants insofar as they (1) avoid excessive finger pointing among parties who are involved in an ongoing commercial relationship (and thereby encourage immediate repairs in lieu of a lawsuit) and (2) are economically efficient because only one party needs to value and insure the risk.
However, despite the best intentions of the parties to limit disputes through waiver of subrogation provisions, the scope of these waivers is not always clear and can often become an independent source of litigation. For example, the standard waiver of subrogation that appears in the American Institute of Architects (AIA) form agreement provides that subrogation claims are waived for any damages covered by property insurance applicable to “the Work.” The question then becomes, what constitutes “the Work”? Is it the entire project, or is it limited to the work of the responsible contractor? Does it apply only to work during construction, or does it also apply to damages arising after construction is completed?
One of the early cases on the issue, Town of Silverton v. Phoenix Heat Source Sys., Inc., is a good example of how the dispute usually works. There, a Colorado town hired a contractor to install a new roof on the town hall. The contractor hired the defendant, a subcontractor, to install an electric snow melting system on the new roof. The roof was later damaged in a fire, after the town made its final payment to the general contractor.
The court, in deciding whether to apply the waiver of subrogation, held that it was limited spatially but not temporally. The clause was spatially limited to the extent it waived the right to subrogation as to the “Work,” which the court determined was limited to the roof itself. But the court held that the waiver was not temporally limited, because it found that it applied to damages that occurred even after work was complete, since the construction contract required insurance that continued to cover the construction even after completion.
These types of disputes are typical, and Town of Silverton was the basis for many cases over the ensuing decades. Disputes about subrogation can put a strain on insureds’ business relationships, and they may even find themselves the subject of claims by other contractors’ insurers. The takeaway here is clear: although often used, standard subrogation waivers often lend themselves to too much interpretation (and litigation). Consequently, parties should take care not to leave issues dangling: they should modify standard subrogation waivers to define the scope of the intended waiver—whether spatial or temporal—more clearly.